Do specialized retirement plan advisers even need a broker-dealer?

The reasons for affiliating with a brokerage have changed as compensation has evolved

Financial advisers who specialize in the retirement plan market may find themselves considering a break from their broker-dealer.

The past several years have seen 401(k) specialists, similar to wealth managers in the retail market, migrate toward compensation structured on level fees rather than commissions, due largely to the evolution of record-keeping technology. That dilutes the necessity of a brokerage affiliation from the standpoint of compensation.

"In the past, it had been, 'I need a broker-dealer because I have commissionable products,'" said Fred Barstein, founder and CEO of The Retirement Advisor University. "Up until a few years ago, it was hard to find a fee-based product. Now, almost every record keeper is offering [one]. So advisers are asking, 'Why do I need my broker-dealer?'"

Some advisers say broker-dealers are still relevant, but that their role has evolved. While their relationship with 401(k) advisers may have been more transaction- and compensation-oriented in the past, their utility has become one founded more on adviser-support functions as the retirement market has become more challenging to navigate.

That helps advisers focus more on servicing clients than worrying about the minutiae of running a business, observers said.

"The dually licensed folks want a mother ship who'll provide all that [support] and they don't have to deal with it," said Philip Chao, principal and chief investment officer at Chao & Co.

He ditched his brokerage affiliation about 17 years ago.

"If you don't care [about the additional things a brokerage provides], then there is no more value," he said.

FEE SHIFT

As advisers become more specialized in the 401(k) market, they tend to move further away from commission business. Nowadays specialists, who receive the bulk of their revenue or all of it from retirement plans, do only 5% to 10% of their business on a commission basis, Mr. Barstein said. But that still requires an affiliation with a brokerage firm and the requisite securities licenses.

Until roughly a decade ago, the large, national record-keeping shops such as Fidelity Investments didn't offer products allowing advisers to receive a level fee, observers said. The platforms primarily used investment funds paying the broker-dealer and the adviser through varying levels of 12b-1 fees (used synonymously here with commissions).

However, record keepers have built open-architecture platforms that offer much more choice to advisers, including funds that strip out revenue-sharing payments such as 12b-1 fees. Those include institutional and R6 share classes, for example. Therefore, advisers can charge a level fee for services that's paid either by the plan participants or employer.

At the same time, record keepers have built "expense recapture accounts," also known as ERISA buckets, that capture the revenue-sharing payments from participant investments. This pot of money can be used to provide a level fee to the adviser or other plan vendor.

Ascensus, a record keeper with $65 billion in retirement assets under administration, was a pioneer among larger record keepers, debuting its first fee-based platform around 2006. Advisers are increasingly choosing its fee-based platform, which generated roughly 80% of Ascensus' sales last year, said Kathleen Connelly, its executive vice president.

Even small startup plans, typically the realm of 12b-1 fees, have begun using the platform within the last two years, she said.

The fee-based movement has occurred amid an environment that has promoted broader fee transparency, such as the burgeoning 401(k) litigation targeting employers with high retirement-plan fees. The Department of Labor also issued regulations within the past five years that played a role, including a fee-disclosure rule and its fiduciary rule governing retirement investment advice.

Since providers take 12b-1 fees directly from the investments that participants hold, investors may not know they're paying revenue-sharing fees for advisory services.

Todd Levy, chief investment officer at Ingham Retirement Group, an advisory firm overseeing nearly $2 billion in retirement plan assets, said the firm's broker-dealer serves as a conduit to support legacy business set up with revenue-sharing arrangements in the 1990s.

"It's been a small amount of our business to begin with and is becoming an increasingly smaller amount of our business, so we've become less reliant on the broker-dealer relationship," Mr. Levy said. "Clients want a very clean and transparent engagement."

WHAT DO BROKER-DEALERS OFFER?

However, some advisers and executives say a brokerage affiliation nowadays is much less geared toward compensation.

"The conversation is shifting more toward [asking], 'What are the capabilities and resources of the firms you're affiliating with,'" said Bill Beardsley, senior vice president and head of the Retirement Partners group at LPL Financial Inc., the nation's largest independent broker-dealer.

Advisers who maintain an affiliation say it's become harder to operate in the industry without some type of support, and they frequently point to brokerages' assistance with practice management and compliance, as well as their providing a network of advisers with whom to share ideas and other 401(k) resources.

"Someone else runs the business while you run your practice, and that was an advantage [to us]," said Kevin Mahoney, senior vice president of investments and senior institutional consultant at The Mahoney Group of Raymond James. His firm joined the brokerage's employee channel.

Keith Gredys, CEO and president of Kidder Benefits Consultants Inc., said LPL's retirement-plan tool suite — software that helps 401(k) advisers with responsibilities such as investment selection and monitoring, lead generation, client acquisition and benchmarking plan services — and "access to like-minded individuals" — are the primary reasons he maintains an affiliation with the brokerage.

Mr. Beardsley of LPL said access to education and training and being part of a firm with scale, which allows for reinvestment in things such as new technology, also are important considerations. And advisers don't have to affiliate with the LPL broker-dealer for access; they can choose to affiliate with the corporate RIA.

At the same time, though, broker-dealers have competition from so-called "RIA aggregators" such as Captrust, NFP, Global Retirement Partners and Pensionmark Financial Group, which build scale through acquisition or affiliation of retirement-plan-focused registered investment advisers. They offer support and tools similar to those touted by broker-dealers.

"We have fee compression, regulatory and legislative issues, so having some intellectual capital behind you is critical. That's why you're [also] seeing growth in places like GRP and Pensionmark," Mr. Mahoney said. "It's becoming difficult to truly do this on your own anymore."

A BETTER FIT

Executives at these RIA aggregators often pitch themselves as a better fit for retirement plan specialists than other firms, since their executives typically were previously retirement plan advisers themselves. Some even offer advisers an annual subscription to their 401(k) tool suites that doesn't require any sort of affiliation.

Bukaty, like most of the aggregators, maintains a brokerage affiliation. (Bukaty's is with Triad Advisors Inc.) The firm's motivation, though, is primarily compensation-related.

While Bukaty's advisers charge a level fee for all their retirement plan work, 12% of the aggregator's overall business is still commission-based, Mr. Morris said. The commissions come from alternate lines of business.

While specialists derive most of their revenue from 401(k) plans, some shops also provide tangential services such as executive compensation for the plan sponsor's executive ranks and wealth management for the plan participants.

Nonqualified deferred compensation plans often involve the use of variable insurance products, which require a brokerage affiliation to sell, said Aaron Pottichen, retirement services practice leader at CLS Partners, an independent advisory firm.

"For people that do deferred compensation, you miss out on a ton of money [without a broker-dealer affiliation], because a client generally won't pay that [much money] in a consulting fee," said Mr. Pottichen, who used to work with such products when affiliated with Raymond James. "That's a big deal to stay with a broker-dealer."

"[Ultimately], I think it's a choice," said Ms. Connelly of Ascensus. "I don't know that one is better or worse. I think it's a preference to the adviser."

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